1. This afternoon, we welcome to the Committee
Robin Young, the Accounting Officer of the Department for Culture,
Media and Sport, one of our frequent visitors, and Guy Wilson,
Master of the Armouries, to discuss the C&AG's report on the
re-negotiation of the PFI-type deal for the Royal Armouries Museum
in Leeds. We also welcome Chris O'Boyle, Chairman of Royal Armouries
(International) PLC, (RAI), who were previously the private sector
operators of the new museum. Thank you for being here, Mr O'Boyle,
I know it has been inconvenient for you. Let us go straight in.
Both the Millennium Dome and the new Armouries Museum ran into
financial difficulties because visitor numbers were lower than
forecast. Is this then Yorkshire's Millennium Dome?

(Mr Young) I do not think that is fair.

2. It is a question whether it is fair or not.

(Mr Young) No, is my answer to your question.
It is best to put it in its historical context. This project was
begun in 1993 and obviously the Millennium Dome was thought of
a bit more recently. As we have discussed at various times in
this Committee to do with lottery projects, including the Dome,
the issue of visitor projections, predicting visitor numbers to
visitor attractions was very much a topical issue in the late
twentieth century. In 1993 there was much less expertise and the
sort of issues which prevailed and which affected the Dome's visitorship
are not the same ones which applied here.

3. The real reason I addressed the question
to, Mr Young, was to follow up with the question: how many other
funded visitor attractions do you have which are in the similar
position of being at risk because of visitor numbers? It is clearly
the key issue in many projects.

(Mr Young) I follow that point exactly
and indeed both the Sports Council and Arts Council sessions we
have had round this table have had projects where this has arisen.
I ought to add, by way of parenthesis, that a lot of our projects
have done a lot better than projected. If you take the Walsall
new art gallery or the Lowrie centre at Salford, their visitor
projections have well outstripped what we and the distributing
bodies predicted. It is not all bad news; it is not all one side.
Needless to say, the projects I tend to have to talk to you about
are those which have fallen short. Overall it is not the case
that all projects are suffering lower than projected visitor numbers.
There certainly is an issue. What we are doing in the Department
to take the substance of your question, is get together the Lottery
distributors and other visitor attractions with the English Tourist
Council and see whether there are lessons to be learned, bringing
in the consultants who, as you have pointed out, are nearly always
involved in one way or the other in projections high and low to
see whether there are best practice lessons to be learned and
to help Lottery distributors in particular cross-examine and interrogate
the visitor projections which come forward with their bids.

4. Did you do a price-based survey? Survey of
probable visitors on different pricing levels?

(Mr Young) There is one here. This indeed
had exactly that.

5. Another matter of policy concern for you
is this whole question of the transfer of risk which is at the
heart of PFI. On the face of it, this deal sought to transfer
risk to the private sector. But when it ran into financial difficulties,
in effect you had to bail them out to bring the risk back in.
Was the Department therefore not misleading itself in however
well intentioned a way in thinking that the risk had already been
transferred to the private sector?

(Mr Young) I would not put it exactly
like that but I understand the point of the question. I would
say that the report sets out or charts the development of PFI
policy and PFI policy thinking between 1993 and the late 1990s.
As this report shows, when we started in 1993, the Government
saw its role explicitly as maximising the transfer of risk to
the private sector. Indeed this is set out in the report on page
12 in table 5. It is actually set out explicitly that the objective
was to maximise private sector transfer of risk and private sector
contributions. Since then though, and in the light of developments
on PFI schemes across the country and in different sectors, our
new objective is to optimise the share of risks and not maximise
the transfer, because that becomes non-sustainable, as this project
has shown amongst others. Our new objective is to seek the optimum
transfer of risk and the best possible sharing of risk. I would
say that this project, which was of course one of the trailblazers
or pathfinders for PFI, where we were still learning the lessons,
shows the risk which we have learned, as seen in PFI guidance
which has subsequently come forward, of maximising the transfer,
which is what we did here, which has the risks of the project
then failing, with the re-negotiating then having to start. What
we have done and what the report acknowledges is tried to use
in hindsight the current PFI guidance by sharing a risk and to
use that guidance to work out the correct re-negotiated deal,
which is what is set out in the report.

6. What you say has some quite serious implications
for Treasury treatment of this but we shall come back to that
later. Let us turn to the Armouries. Welcome. The financial problems
of the new museum arose as visitor numbers were much less than
you originally estimated. According to paragraph 1.40, by 1999
visitor levels were around a third of what the museum needed to
break even. Why was it that people did not visit? What is the
reason for that shortfall?

(Mr Wilson) I do not think anyone can
give a precise answer to that. We are dealing in an area where
there are lots of opinions and very few facts. One fact we have
is that between 1990 and 1992 both the Department and ourselves
employed four separate sets of consultants to look at how many
visitors would be likely to come to this attraction. Was it going
to be an attractive museum? The answer we got from them and the
confidence we had in the project which stemmed from that was that
yes, this appeared to be extremely popular. They all said that.
You might say something went wrong. What was it? Was it their
predictions?

7. Remind me who those consultants were?

(Mr Wilson) Peat Marwick, Grant Leisure,
PA Consulting and MORI; subsequent to that Royal Armouries (International)
also used MEW and MEW came up with very similar results, indeed
in many ways even more optimistic. All the evidence we had was
that it would be a very attractive proposition.

8. On the pricing assumptions you ended up using.

(Mr Wilson) Yes. Peat Marwick's first
assessment was that the museum was likely to be price sensitive
and they were concerned about that. That was reinforced by the
MORI research. If you look at the table of the research, page
3, figure 2, you will see the MORI line as the line immediately
below the top line. That was the visitor numbers they were predicting
at a £5 adult admission price.

9. And your initial admission price was ...?

(Mr Wilson) The initial admission price
was £6.95. You could draw a line at that level which was
beneath the achieved level until 1998-99. MORI was saying this
was extremely price sensitive.

10. Could we be clear? What you are saying is
that MORI told you that with a £5 admission fee the line
on this graph would pertain, but that at £6.95, it would
be worse.

(Mr Wilson) It would be 278,000 was what
they predicted.

11. In fact they effectively predicted what
actually happened.

(Mr Wilson) Yes, you could say that.
What they were saying, however, to us was that this seemed to
be very price sensitive. MEW, who were the last people to look
at it, had far less sensitivity in their analysis. You have a
whole set of consultants saying it is going to be very, very popular
and attractive, disagreeing amongst themselves about quite how
attractive and certainly disagreeing about price sensitivity.
Price sensitivity does therefore become one of the questions.
Was it price sensitivity? There is a whole range of other issues
which need to be looked at before one can come to any conclusions
about that, especially because in all market research that Royal
Armouries (International) undertook subsequent to opening, the
price issue did not seem to be a great one.

12. MORI is presumably doing market research;
that is what they do.

(Mr Wilson) After opening there was research
on visitors to the museum. Did you find it value for money? Did
you think it was too expensive? The answer was not coming out
in the sense that we might have expected had MORI been correct.

13. If you ask the question after someone has
visited it is a rather different question to the one to somebody
who is considering whether to visit, not having seen it. It seems
to me there is quite a lacuna in the logic there but I shall leave
it for others to pursue. Let us talk about the revised deal. When
negotiating the resolution of the museum's financial crisis, did
the Department take full account of the commercial aspects of
the options that were then available to it? According to paragraphs
1.77 and 1.81 the Department considered that, should RAI go into
receivership, the museum would close and be lost to it. Why did
it consider this when the legal advice given to the Armouries
was that the museum's closure was only a possibility, paragraph
1.68, and that the only likely eventual purchaser would be the
Armouries itself?

(Mr Young) We talked a lot about that,
both with the Armouries and with the company. Our legal advice
was very firm and we disagreed with the NAO's judgement on this.
I could quote various chunks of the legal advice, but it would
go on too long. Broadly speaking their advice was, and this is
what the company told us was the bank's opinion, and we checked
this with the bank and that was confirmed, that receivership would
mean the closure of the museum. With closure comes uncertainty
and cost. It is hypothetical as to how long the thing would have
been closed and what it would have taken to open it, but we took
the view, and it was a risk assessment exercise for us of the
sort we often talk about here, that getting a liquidator in and
having the museum closed was a really very severe risk with the
risk of loss of staff and the risk of deterioration of the product
and the unknown quantity the sum of money needed to re-open it.
That was the downside risk which we took. Our lawyers were absolutely
clear that the bank, for two years, would be most likely to keep
the thing closed. That was their view.

14. They thought they would cut off their nose
to spite their face, did they?

(Mr Young) The alternative was to open
the museum and carry on losing the £3 million a year, which
is what they would have to do to obey the particular aspect of
the lease which is drawn attention to in the report. Neither the
liquidator nor the bank would be very keen to do that to keep
the thing open and carry on losing, so that is one option and
the other option is to close. Between that there is a negotiation
which we had.

15. Did you take advice from any insolvency
recovery specialists?

(Mr Young) No, we did not.

16. Would that not have been sensible, given
that this is precisely that sort of circumstance? It is a situation
I am very familiar with.

(Mr Young) Maybe we should, but with
respect, I would say that the deal we were after and which we
eventually got was a very good deal. Perhaps we differ on that.
I would certainly say it is a very good deal, one which keeps
the thing open at a reasonable price with a reasonable sharing
of the risk between private and public sector.

17. I am sure the Committee will make a judgement
on that. I want to turn to the Treasury briefly before we widen
the discussion out. This is something of a salutary example for
the Government, is it not? Here are circumstances where the attempt
was made to move the maximum possible risk off the Government's
balance sheet and it was then faced with the circumstance of an
unacceptable failure; understandable, a perfectly reasonable judgement
I suppose. Is this not a problem which faces you with all PFI
projects from now on, that if you have an important public project,
which is where the risk has moved off the Government balance sheet,
you cannot actually face closure and therefore you have to take
it back?

(Mr Glicksman) The guidance on PFI projects
has moved on a good deal. This point is now generally recognised
that when you go into a PFI project, you need to make sure that
you have the optimum arrangement for risk sharing between the
parties so that risk lies with the party which can handle it best,
rather than the maximum transfer of risk. If complete failure
of the project is not an option which the public sector can tolerate,
then that then becomes a risk which has to remain in the public
sector.

18. How does that affect your balance treatment
of PFI?

(Mr Glicksman) That then follows from
the conclusion of the consideration of where the risks should
lie. If at the end of the day the majority of risks are left to
the public sector, then it is a public sector project. There are
accounting rules in which I am not an expert about deciding what
the balance sheet treatment is. I do not think that we are going
into PFI projects under current guidance with the aim of one balance
sheet solution or another balance sheet solution. We are going
into them with the aim of finding the optimum balance of risk.

19. No, that is not the thrust of my question.
The thrust of my question really relates to what the balance sheet
treatment would end up being in the final analysis once you get
a project where you think you have transferred risk, but there
is a terminal risk which is very serious, which will come back
to you, if a hospital company goes bankrupt or some such thing
like that. This has quite serious implications for the overall
treatment of PFI, which at the moment, on the basis of risk, is
taken off balance sheet. Have you considered the implications
of this project for that?

(Mr Glicksman) Yes, I agree entirely
with that. The way in which the accounting guidance operates,
as I understand it, is that it looks at the project, it considers
where the risks in the end have fallen and the balance sheet treatment
follows from that.